The European Central Bank cut its economic and inflationforecasts and President Mario Draghi said weakness will persistinto next year, leaving the door ajar for further interest-ratecuts.

“Weak activity is expected to extend into next year,” Draghisaid today at a press conference in Frankfurt after policy makersleft the benchmark rate at a record low of 0.75 percent. “Later in2013, economic activity should gradually recover as global demandstrengthens and our accommodative monetary-policy stance andsignificantly improved financial market confidence work their waythrough to the economy.”

While Italian and Spanish bond yields have plummeted sinceDraghi promised to do whatever it takes to save the euro andunveiled an unlimited bond-purchase program, the 17-nation currencybloc fell back into recession in the third quarter. The ECB'slatest forecasts paint a picture of economic stagnation andinflation falling well below its 2 percent limit. The euro fellmore than half a cent to $1.3031 as Draghi spoke.

The ECB now forecasts the economy will shrink 0.5 percent thisyear, more than the 0.4 percent contraction it predicted inSeptember. It cut its 2013 forecast to a contraction of 0.3 percentfrom 0.5 percent growth, and projected expansion of 1.2 percent in2014. Risks to the outlook remain on the downside, Draghi said.

The ECB reduced its inflation forecast for 2013 to 1.6 percentfrom 1.9 percent and predicted a rate of 1.4 percent for 2014.

“Projections of undershooting inflation should keep rate-cutspeculation underpinned,” Christoph Rieger, head of fixed- incomestrategy at Commerzbank AG in Frankfurt, wrote in a clientnote.

Euribor futures contracts rose, signaling investors are addingto bets for lower borrowing costs. The implied yields on thecontract expiring in December 2013 fell five basis points, or 0.05percentage point, to 0.17 percent at 2:05 p.m. in London.

The Bank of England today left its key interest rate at 0.5percent and refrained from expanding its asset-purchaseprogram.

Asked whether ECB policy makers considered a rate cut today,Draghi said they had a “wide discussion.” Still, he said theoutlook for medium-term price stability “hasn't changedsubstantially” and highlighted “some positive aspects of thecurrent situation,” such as an increase in German businessconfidence.

Much 'Already Done'

“We will continue to look at the situation, but to some extentwe have already done much,” Draghi said. “If you think from July totoday, some countries' spreads, or some sovereign bond yields, wentdown by 200 to 250 basis points. That's much more than anything youcan achieve by a reduction in the short-term policy rate.”

German inflation fears may make policy makers think twice aboutcutting rates again.

Bundesbank President Jens Weidmann was the only member of theECB's Governing Council to vote against Draghi's bond-purchaseplan, known as Outright Monetary Transactions, saying it istantamount to printing money to finance governments and warning ofthe risk that it could fuel inflation.

Draghi today reiterated that the ECB stands ready to activatethe program as soon as a country like Spain fulfills theprerequisites of seeking aid from Europe's bailout fund and signingup to conditions. He has also sought to placate German concernswith assurances that the purchases won't fuel inflation.

“A rate cut could further undermine support of inflation-averseGermans and thus be counterproductive,” said Christian Schulz,senior economist at Berenberg Bank in London. “It is pivotal forthe ECB to ensure strong OMT credibility. This means ensuring amaximum of support from Germany.”

The ECB today extended its policy of lending banks as much moneyas they request in refinancing operations through to at least July9 next year.

Bloomberg News